Indonesia central bank surprises again with big rate hike

JAKARTA Bank Indonesia raised its benchmark policy rate by an unexpected 50 basis points on Thursday, as the central bank continued to surprise with aggressive steps to battle accelerating inflation, halt foreign outflows and bolster its weak currency.

Indonesia is scrambling to stop an exodus of foreign funds from Southeast Asia's largest economy that got started after the U.S. Federal Reserve in May signaled it was thinking about winding down its easy money policies.

With Thursday's hikes - double what the market anticipated - "we believe that market confidence will be stronger. Therefore, the reversal of capital will be shifted," said central bank deputy governor Perry Warjiyo.

"In the last one week, there was net buys particularly in government bonds," he said. "We are sure that foreign capital inflow will be stronger."

The central bank hiked its benchmark policy rate to 6.50 percent, instead of to 6.25 percent as most analysts predicted. Bank Indonesia (BI) also raised its overnight deposit facility rate, known as FASBI, by 50 basis points to 4.75 percent.

In mid-June, BI became the first Asian central bank to hike a policy rate since 2011, raising the benchmark and FASBI by 25 bps.

"Investors have been looking for stronger policy signals and this is it," said Prakriti Sofat, regional economist at Barclays Capital in Singapore, adding that more assertive rate hikes such as Thursday's "will serve to anchor inflation expectations and bolster their currency."

The economist said she expects another 50 bps hike in the coming quarter.

SURGING INFLATION

Inflation is expected to surge to a four-year high this month as the full impact of fuel price hikes imposed on June 22 hits Indonesians. Rising demand during the Muslim fasting month, which began this week, will also further stoke inflation for the country with the world's biggest Muslim population.

The central bank has projected inflation to rise as high as 7.5 percent on an annual basis this month, compared with 5.9 percent in June.

Governor Agus Martowardojo, who has made bold moves since taking office in late May, said BI would also restrict banks from providing financing for downpayments for some properties, in a bid to slow the rapid housing sector growth.

Enrico Tanuwidjaja, economist with RBS in Singapore, said BI made good moves on Thursday to assure the market that it is "bringing forward tight monetary policy" to deal with higher inflation.

"Of course, there will be an impact on growth for Indonesia. It will be slower," he said.

The central bank on Thursday revised down its projection for growth of gross domestic product this year to 5.8-6.2 percent, compared with 6.2-6.6 percent before. BI estimated GDP can expand 6.4-6.8 percent in 2014.

In June, Indonesia's economy was badly impacted by a heavy sell-off in bonds, stocks and the rupiah as investors fretted about the Federal Reserve's plan to reduce its monetary stimulus as well as about Indonesia's inflation pace and its current account and budget deficits.

BI reported about $4 billion of capital outflows in June. As of July 9, offshore ownership in government bonds had fallen to 31.8 percent of total from 33.8 percent at end of May.

SLIPPING RESERVES

June's foreign-exchange reserves dropped $7 billion to $98.1 billion, the lowest level since 2011, as a result of BI intervention in the forex market to support the embattled rupiah.

On Wednesday, Indonesia sold a $1 billion bond that matures in October 2023. The government paid a coupon of 5.375 percent compared with the 3.375 percent it paid on a $1.5 billion 10-year bond in April, according to IFR, which quoted a Hong Kong-based banker as saying "Everyone knows that Indonesia needs the money.

Having higher interest rates should help BI prop up the rupiah, which has fallen 3.4 percent against the dollar this year. In 2012, the rupiah was the worst performing emerging Asian currency, shedding 6 percent against the dollar.

"Where the rupiah is right now is a big concern that prompted them to tighten more than expected. There is more tightening to come, and obviously the magnitude continues to depend on currency environment," said Su Sian Lim, economist at HSBC in Singapore.

The central bank said on Thursday that a rupiah exchange rate of 9,000-9,500 per dollar was in line with fundamentals. The local currency traded at about 9,965 to the dollar after the rate decision.

Ten of 12 analysts polled by Reuters prior to Thursday's announcement had expected a 25 basis point hike for the benchmark policy rate. The other two forecast a hold at 6.0 percent.

(Additional reporting by Nilufar Rizki and Kanupryia Kapoor in Jakarta, Jongwoo Cheon in Singapore and Neha D'Silva of IFR in Hong Kong; Writing by Randy Fabi; Editing by Richard Borsuk)

BATON ROUGE, La. U.S. President-elect Donald Trump on Friday said that China and other countries often devalue their currencies as the U.S. economy improves, vowing to combat currency manipulation and the dumping of foreign products into U.S. markets below cost.

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